In various guises, the “Year of Living Dangerously” has been used to describe the global financial crisis, the policy response to the crisis, and its aftermath. But, we’ve slipped well beyond a year and the financial system is still flirting with danger. Financial stability risks may have eased, reflecting improvements in the economic outlook and continuing accommodative policies. But those supportive policies—while necessary to restart the economy—have also masked serious, underlying financial vulnerabilities that need to be addressed as quickly as possible. Many advanced economies are “living dangerously” because the legacy of high debt burdens is weighing on economic activity and balance sheets, keeping risks to financial stability elevated. At the same time, many emerging market countries risk overheating and the build-up of financial imbalances—in the context of rapid credit growth, increasing asset prices, and strong and volatile capital inflows. Here is our suggested roadmap for policymakers to address these vulnerabilities and risks, and achieve durable financial stability.
The breakdown of the short-term funding markets was one of the most striking features of the global financial crisis. Equally astonishing, and unexpected, was the central role that U.S. money market mutual funds played in contributing to this wholesale shut-down. For the October 2010 Global Financial Stability Report Jeanne Gobat and IMF colleagues examined the issue of systemic liquidity risk, including the role of money market mutual funds in the financial crisis and some concrete recommendations on how to fix it. Here, Jeanne reflects on their findings and shares some options for addressing industry risk.